Inspector General’s Message to Congress

Our Nation’s security relies on a government with sufficient resources to protect, defend, and serve its people. Each year, taxpayers send approximately $2.3 trillion to the U.S. Treasury, trusting that their hard-earned money will be collected fairly, and processed efficiently and effectively. In 1998, Congress created the office of the Treasury Inspector General for Tax Administration (TIGTA) to assure the American public that their tax dollars are accurately assessed and that the Internal Revenue Service (IRS) is held to a high level of accountability. I am dedicated to upholding this vitally important mission.

I am proud of our accomplishments and pleased to present TIGTA’s Semiannual Report to Congress. This report highlights notable audits and investigations conducted between April 1, 2007, and September 30, 2007, and summarizes the results of our work. Over the last six months, TIGTA has completed 119 audits that identified more than $16.2 million in total cost savings and more than $1.31 billion in increased or protected revenue. TIGTA’s Office of Chief Counsel has reviewed and made recommendations on the impact of 183 proposed or existing regulations and laws affecting tax administration.

The IRS continues to face many challenges, both internal and external. Recent reports by TIGTA’s Office of Audit have raised concerns about the IRS’ Questionable Refund Program, its computer security risks, and its ability to match names and identification numbers on tax documents – all of which are costing the Federal Treasury and taxpayers in excess of $1.5 billion. These and other concerns have reinforced my priorities for TIGTA, which include: overseeing IRS efforts to modernize technology; monitoring IRS initiatives to improve tax compliance; and enhancing TIGTA’s ability to protect tax administration from corruption.

Helping to secure the sensitive financial and personal data entrusted to the IRS by taxpayers is of the utmost importance to TIGTA. The IRS processes and maintains personally identifiable information for more than 130 million taxpayers. While the IRS has taken several noteworthy actions to protect this information, TIGTA reviews have concluded that IRS employees are still not complying with basic computer security practices.

Unauthorized access to confidential tax information (UNAX) by IRS employees also continues to pose a serious threat to the security of taxpayer data. Over the last six months, TIGTA’s Office of Investigations opened 279 new UNAX cases and closed 335 UNAX cases, 324

of which resulted in disciplinary action against IRS employees. Our investigators have also provided fraud awareness presentations at training conferences and meetings to more than 28,000 tax practitioners and IRS employees. This outreach has enabled TIGTA to develop relationships with groups that have the potential to assist in identifying corruption within our tax administration system.

I commend the men and women of TIGTA for their dedication and outstanding service to the people of this great Nation.

Sincerely,

J. Russell George

Inspector General

TIGTA’s Highlights

The following table shows TIGTA’s statistical highlights for this semiannual reporting period as well as all of Fiscal Year 2007.

Number of Audit

Reports Completed

Cost Savings

Identified

Increased/

Protected

Revenue

No. of Investigations

Opened

No. of

Investigations

Closed

Regulations/

Legislative

Requests Reviewed

April 1, 2007 – Sept. 30, 2007

119

$16.2 million

$1.31 billion

1,910

2,068

183

FY 2007

180

$22 million

$1.82 billion

3,764

3,680

325

Examples of high profile cases from the Office of Investigations:

In June 2007, the U.S. Department of Justice announced that Mellon Bank, N.A., agreed to pay $16.5 million to settle claims related to the 2001 destruction of tens of thousands of individual tax returns and checks that the bank was supposed to process as an agent for the Treasury Department. This payment was to reimburse the Federal Government for the value of the interest lost on the destroyed checks and to cover the costs incurred by the Federal Government in obtaining replacement checks from the affected taxpayers.

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An individual was sentenced in the U.S. District Court, District of Oregon, to a term of 51 months of imprisonment, $1,322,582 in restitution, and three years of supervision upon his release from prison after pleading guilty to mail fraud, attempting to defeat the payment of tax, and impersonation.

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The vice president of Public Affairs International, Inc. was sentenced to 30 months in prison to be followed by three years of supervised release and ordered to pay restitution of $1,379,630 after pleading guilty to conspiracy to defraud the United States and obstruction of a Federal audit.

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Examples of accomplishments from the Office of Audit:

Efforts to Match Names and Identification Numbers on Tax Documents are Insufficient

TIGTA found that the IRS may be costing the U.S. Treasury billions of dollars in lost revenue. The IRS is not matching millions of income statements with incorrect or missing identification numbers to existing tax accounts. In Tax Year 2004 alone, the IRS received approximately 3.8 million miscellaneous income statements reporting about $150 billion in earnings that it was not able to match

to a tax account. In a review, TIGTA was able to match 50 percent of a sample of miscellaneous income statements with incorrect or missing numbers and wage statements from Tax Year 2004 to taxpayer accounts.

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IRS’ Questionable Refund Program

The IRS relies on the Questionable Refund Program to identify and prevent fraudulent refund claims from being paid. Over the past several years, TIGTA has reported that the program was becoming increasingly unmanageable due to the growing number of fraudulent claims and the IRS’ lack of resources to combat the fraud. TIGTA’s most recent audit found that changes in the program along with a significant technological failure dramatically decreased the effectiveness of this vital program for the 2006 Filing Season. As a result, nearly $15.9 million in potentially fraudulent refunds were allowed to be issued.

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Many Taxpayers Still Not Using the IRS’ Free File Program

Fewer taxpayers took advantage of the IRS’ free electronic tax-filing service in 2007 than in previous years. The Free File Program allows taxpayers who meet certain eligibility requirements to electronically prepare and file their income tax returns free of charge. As of April 14, 2007, TIGTA found that only 3.3 million taxpayers filed returns using the free service – a decline of 4.7 percent below the same period last year. The decline in the Free File Program comes at a time when the IRS is under pressure to increase electronic filing.

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Computer Security Weakness

Many IRS employees are not complying with the basic computer security practices of protecting their passwords and reporting potential security breaches. Posing as computer helpdesk representatives, TIGTA called 102 IRS employees and asked them to assist in correcting a network problem. This required the employees to temporarily change their passwords to a TIGTA-supplied password. Sixty percent complied with these requests, despite regulations against sharing their passwords with others. In addition, only eight employees notified TIGTA’s Office of Investigations of the possible security threat.

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Elimination of the IRS’ TeleFile Program Increased Cost to Taxpayers
The IRS’ decision to shut down its free TeleFile Program has cost taxpayers millions of dollars in fees to file their tax returns. In 2005, approximately two million taxpayers filed their tax returns at no cost through the TeleFile Program in which simple tax returns could be filed by using a telephone keypad. Nonetheless, citing declining usage and increasing costs associated with the program, the IRS shut it down in August 2005. The result has been that most former TeleFile users now pay tax preparers or purchase tax preparation software to file their returns. TIGTA estimated that more than 541,000 taxpayers who used Telefile in 2005 paid $23.6 million to file their taxes in 2006.

TIGTA's Profile

Promote the Economy, Efficiency and Effectiveness of Tax Administration

Audit Emphasis Areas

Systems Modernization of the Internal Revenue Service
Tax Compliance Initiatives
Tax-Exempt Organizations
Security of the Internal Revenue Service
Providing Quality Taxpayer Service Operations
Complexity of Tax Law
Using Performance and Financial Information for Program and Budget Decisions
Erroneous and Improper Payments

TIGTA’s Office of Audit (OA) strives to promote the economy, efficiency, and effectiveness of tax administration. TIGTA provides recommendations to improve IRS systems and operations while ensuring fair and equitable treatment of taxpayers. TIGTA’s comprehensive, independent performance and financial audits of IRS programs and operations primarily involve mandated reviews and high-risk challenges facing the IRS.

The IRS’ implementation of audit recommendations results in: cost savings and increased or protected revenue; reduction of taxpayer burden; and protection of taxpayer rights and entitlements, taxpayer privacy and security, and IRS resources.

Each year, OA identifies and addresses the major management challenges facing the IRS. OA places audit emphasis on statutory coverage required by RRA 98, and areas of concern to Congress, the Secretary of the Treasury, the Commissioner of Internal Revenue, and other key stakeholders.

The following summaries highlight significant audits completed in each of the above emphasis areas during this six-month reporting period.

Systems Modernization of the Internal Revenue Service

The Business Systems Modernization (Modernization) Program is a complex effort to modernize IRS technology and related business processes. According to the IRS, this effort involves integrating thousands of hardware and software components. All of this must be done while replacing outdated technology and maintaining the current tax system.

Annual Assessment of the Business Systems Modernization Program

The Modernization Program is in its ninth year and has received approximately $2.3 billion for contractor services. Additionally, the IRS had spent $220 million through Fiscal Year (FY) 2006 and planned to spend an additional $45 million in FY 2007 to manage the Modernization Program.

According to the IRS’ original plan, the Modernization Program would be near the halfway point by Calendar Year (CY) 2007. However, due to receiving less funding than initially anticipated and having difficulties in managing contractor work, the IRS has not completed as many modernization projects as planned.

Although the IRS has made advances in its modernization effort, it has not achieved anticipated progress. Inconsistent compliance with project development controls has contributed to delays in project deliveries, increased development costs, and reduced capabilities. Since FY 2002, TIGTA’s annual assessments of the Modernization Program have cited that the IRS needs to: 1) improve key management processes and commit necessary resources to enable success; 2) manage the increasing complexity and risks of the Modernization Program; 3) maintain continuity and strategic direction with experienced leadership; and 4) ensure that contractor performance and accountability are effectively managed.

In FY 1995, the IRS identified its Modernization Program as a material weakness in accordance with the Federal Managers’ Financial Integrity Act of 1982^{^[3]} reporting requirements. An October 25, 2006, memorandum from the IRS Commissioner stated that the IRS completed the actions identified in the modernization material weakness action plan that was developed in response to the initial identification of the material weakness in FY 1995. However, the modernization material weakness action plan has not been updated to include weaknesses reported since 2003 by TIGTA, the Government Accountability Office (GAO), and IRS studies.

TIGTA recommended that the IRS continue to address Modernization Program corrective actions from TIGTA and GAO reports through the Highest Priority Initiatives process. By focusing corrective action efforts through this process, the Modernization Program can begin to achieve resolution of the challenges identified in this report and subsequently address downgrading the modernization material weakness. The IRS agreed with the recommendation.

Report Reference No. 2007-20-121

Customer Account Data Engine Capabilities

The Customer Account Data Engine (CADE) will provide the foundation for managing taxpayer accounts to achieve the IRS’ modernization vision. It consists of databases and related applications that will replace the IRS’ official repository of taxpayer information. The Information Technology Modernization Vision and Strategy plans for a phased replacement of IRS computer systems to better support today’s tax laws, policies, and taxpayer needs. The CADE is helping the IRS realize this strategy.

A pattern of deferring CADE project requirements to later releases and missing release deployment dates has continued since the project’s beginning. Allowing this pattern to continue undermines the long-term success of the project. The IRS and the PRIME contractor[4] have deferred project requirements and missed target dates because they agreed to an unrealistic scope of work, did not follow the Enterprise Life Cycle Preliminary Design Phase guidelines, and did not assign adequate PRIME contractor staffing.

In addition, the approach taken to implement the CADE’s architectural design will not support the project’s long-term goals and objectives. Although the CADE is being phased in over multiple years and is processing increasingly more complex tax returns, the IRS has not completed addressing: 1) the need to include a database that stores historical account data;
2) essential processing requirements deferred since Release 1 (first planned for implementation in January 2002); and 3) a process to improve the efficiency of the daily processing cycle.

TIGTA recommended that the IRS negotiate a reasonable scope of work for future CADE release development that considers the amount and difficulty of the work and filing season time constraints. In planning future releases, the IRS should limit delivery to essential capabilities and filing season updates, and consider postponing new capabilities until key business decisions are made and previously deferred essential requirements have been implemented. Finally, TIGTA recommended that the IRS review alternative design solutions and identify process improvements for the project. The IRS agreed with the recommendations and has agreed to take corrective actions.

Report Reference No. 2007-20-080

Contract Negotiation Methods and Management Practices

The IRS awarded 21 Modernization Program task orders during FY 2005 and 2006 with a total contract funding amount of approximately $115 million. TIGTA determined that the IRS needed to further refine contract negotiation and management practices for its modernization and non-modernization systems development task orders. The IRS has already achieved savings of nearly $3.7 million from implementing one of TIGTA’s prior recommendations. Further improvements in applying consistent contract negotiation and management practices would assist the IRS in assuring that taxpayer funds are being spent wisely.

TIGTA recommended that the IRS: 1) ensure that there is an appropriate balance of risk between itself and its contractors; 2) improve pre-award processes; 3) improve monitoring of contractor performance; and 4) improve consistency of contract negotiation and management

practices between modernization and non-modernization systems development task orders.

The IRS agreed with the recommendations and agreed to take or has taken corrective actions.

Report Reference No. 2007-20-123

Tax Compliance Initiatives

Tax compliance initiatives include administering tax regulations, collecting the correct amount of tax for businesses and individuals, and overseeing tax-exempt and government entities for compliance. Increasing compliance with the tax code is at the heart of IRS enforcement programs. The IRS is focusing its casework and enforcement activities to deliver better results and is focusing on those corporations and high-income individual taxpayers who fail to report or pay what they owe.

Mismatched Names and Identification Numbers and the Tax Gap

TIGTA used the IRS’ automated data systems to manually research statistically valid samples of miscellaneous income and wage statements from Tax Year (TY) 2004 with mismatched names and identification numbers reporting more than $60,000 in earnings. TIGTA successfully validated 50 percent of the statements and matched them to taxpayer accounts in the IRS’ records. When projected to the document populations, the sample results indicated that more than 6,000 individuals had not filed tax returns, although the statements reported that they had earned, on average, more than $104,000.

TIGTA recommended that the IRS forward the observations in the report to the Department of the Treasury to use in assessing the need for tax law changes that would allow the IRS to verify employee identification numbers for employers and require employers to: 1) use the IRS identification number matching system to verify the accuracy of identification numbers for hired employees; and 2) withhold taxes at the maximum rates from those whose identification numbers do not match IRS records. TIGTA also recommended that IRS automated data systems be used to research, resolve, and investigate high-dollar miscellaneous income and wage statements with mismatched names and identification numbers.

IRS management agreed with the first recommendation but does not plan to take any action on the second recommendation. In deciding not to take action, IRS management noted that the additional cost of manually perfecting mismatched names and identification numbers on miscellaneous income and wage statements may exceed the monetary benefits. TIGTA found it puzzling that the IRS decided not to act on the recommendation based on a cost/benefit concern because the estimated benefit of more than $233 million in additional revenue exceeds by a large margin the costs the IRS would incur.

Report Reference No. 2007-30-159

Contributions of Motor Vehicles

In 2004, Congress passed legislation limiting the deductions and adding reporting requirements for taxpayers who make charitable contributions of motor vehicles. Individual taxpayers are now required to file a Contributions of Motor Vehicles, Boats, and Airplanes (Form 1098-C) or a written acknowledgement from the charity, in addition to Noncash Charitable Contributions (Form 8283) if their charitable deductions claimed for donated motor vehicles exceed $500.

The IRS revised tax forms and publications, and provided training and information to employees to facilitate implementation of the new requirements for claiming deductions for charitable contributions of motor vehicles. However, taxpayers and tax practitioners still need to be better educated concerning requirements for claiming deductions for donated motor vehicles. Also, additional procedures need to be established to identify noncompliance with motor vehicle donation requirements during returns processing. TIGTA estimated that 104,846 taxpayers could have claimed unsubstantiated motor vehicle donations totaling approximately $209 million for the tax year ending December 31, 2005.

TIGTA recommended that: 1) an outreach plan be developed concerning the reporting requirements for motor vehicle donations; and 2) the IRS threshold be lowered to ensure that most of the returns claiming unsubstantiated deductions are addressed and missing Forms 8283 and supporting documentation are obtained. IRS officials disagreed with the need for an outreach plan, stating that the timing of our review was a factor in the high-noncompliance rate. They also stated that they believed corrective actions from a prior report on noncash contributions would address unsubstantiated deductions. However, Congress specifically provided different substantiation levels for motor vehicles. Also, the IRS’ planned corrective actions to address returns without required substantiation for contributions of motor vehicles will result in virtually no change. TIGTA plans to perform a follow-up audit to determine if the compliance rate significantly improves. Report Reference No. 2007-30-171

Taxpayers with Schedule C Losses and Tax Abuse

I.R.C. Section (§) 183 (Activities not engaged in for profit), also referred to as the “hobby loss” provision, and related Treasury Regulation § 1.183-1 do not establish specific criteria for the IRS to use to determine whether or not a Profit or Loss from Business (Schedule C) loss is a legitimate business expense without conducting a full examination of an individual’s books and records. The purpose of the hobby loss provision is to limit the ability of wealthy individuals with multiple sources of income to apply losses incurred in “side-line” diversions to reduce their overall tax liabilities. TIGTA’s analysis showed that 332,615 high-income taxpayers received the greatest benefit by potentially avoiding approximately $1.9 billion in taxes for TY 2005.

The I.R.C. and Treasury Regulations do not require a taxpayer to have a reasonable expectation of profit; rather, the taxpayer needs just the “objective” of making a profit. As written, I.R.C. § 183 makes it difficult for the IRS to efficiently administer a tax law that ensures taxpayers are not deducting not-for-profit losses to reduce their taxes on other incomes year after year.

TIGTA recommended that the IRS provide a copy of this report to the Department of the Treasury, Office of the Assistant Secretary for Tax Policy, to consider proposing legislative changes to I.R.C. § 183. The proposal should include establishing a clearly defined standard or bright-line rule for determining whether an activity is a business or a not-for-profit activity. Due to the large number of these tax returns being prepared by tax practitioners, TIGTA also recommended that the IRS continue to coordinate with practitioner organizations to encourage compliance with existing provisions. IRS management agreed with the recommendations and plans to take appropriate corrective actions.

Report Reference No. 2007-30-173

Delinquent Employment Taxes Owed by Government Entities

Although the IRS has enhanced its efforts to address delinquent employment taxes owed by government entities in several areas, additional actions are still needed. Specifically, progress in identifying and addressing the causes of delinquent employment taxes owed by government entities has been limited. The IRS does not routinely track information regarding how these cases are resolved or gather data on the causes of the delinquencies.

TIGTA’s review found that management information regarding Federal Government entity cases was not sufficiently comprehensive to allow for effective oversight. It was difficult to readily determine from available management information the exact receipt/assignment date or current status of the Federal Government entity balance-due and delinquent-return cases. In general, the conditions identified were attributable to a lack of comprehensive guidelines and procedures for the assignment, control, and resolution of Federal Government entity cases. TIGTA’s review of the inventory of Federal Government entity delinquent tax cases located at one IRS campus indicated that as of December 2006, 99 entities owing $5.8 million had been assigned for resolution for more than one year. The IRS lacked a viable methodology for addressing aged Federal Government entity delinquencies.

TIGTA made several recommendations including: 1) developing a methodology for reporting and sharing information regarding case resolution actions and causes of all Federal Government entity delinquencies; 2) ensuring that comprehensive guidelines and procedures are developed to guide the assignment, control, and resolution of Federal Government entity cases; and 3) continuing ongoing efforts to develop a process for resolving aged delinquent Federal entity accounts. IRS management agreed with the recommendations and is taking corrective actions.

Report Reference No. 2007-10-166

Tax-Exempt Organizations

The IRS continues to face challenges in administering programs focused on tax-exempt organizations to ensure that they comply with applicable laws and regulations to qualify for
tax-exempt status. While the IRS has noted that the nonprofit community has not been immune to recent trends in bad corporate practices that have been highlighted in the for-profit area, it has only recently begun to concentrate on this area since suffering a decline in staffing during the late 1990s.

Screening of Tax-Exempt Organizations’ Filing Information

The IRS does not systemically match filing data of tax-exempt organizations against a comprehensive list of potential terrorists to identify instances in which charitable and other nonprofit organizations may be linked to terrorist activities. Instead, IRS employees manually review all tax-exempt documents to compare information with a Department of the Treasury terrorist watch list. This list was incomplete compared to the more comprehensive terrorist watch list available for use by all Federal agencies. As a result of using a manual process and a limited terrorist watch list, the IRS provides only minimal assurance that tax-exempt organizations that are potentially involved in terrorist activities are identified.

TIGTA recommended that the IRS and its external stakeholders develop and implement a
long-term strategy to automate the matching of filing data of tax-exempt organizations against a consolidated terrorist watch list to identify potential terrorist activities related to tax-exempt organizations. The IRS should also evaluate whether using more comprehensive terrorist watch lists, including any applicable Terrorist Screening Center information, in conjunction with the Department of the Treasury terrorist watch list during the screening of tax-exempt filing data, would improve its identification of organizations and/or individuals potentially involved in terrorist-related activities. The IRS agreed with the recommendations and is taking corrective actions.

Report Reference No. 2007-10-082

Security of the Internal Revenue Service

Millions of taxpayers entrust the IRS with sensitive financial and personal data stored in and processed by IRS computer systems. Recent reports of identity theft from both the private and public sectors have heightened awareness of the need to protect this data. The risks that sensitive data or computer systems could be compromised and computer operations disrupted continue to increase. Both internal factors, such as increased connectivity of computer systems and increased use of portable laptop computers, and external factors, such as the volatile threat environment related to increased terrorist and hacker activity, cause these risks.

Homeland Security Presidential Directive-12 Requirements

On August 27, 2004, President Bush signed the Homeland Security Presidential Directive-12 (HSPD-12), Policy for a Common Identification Standard for Federal Employees and Contractors. The directive established a new standard for issuing and processing Federal

Government identification cards for entering Federal facilities and for accessing computer systems. In the first compliance phase of HSPD-12, Personal Identity Verification (PIV) I, the Office of Management and Budget (OMB) required agencies to develop procedures no later than October 2005 for registering employees, issuing cards, and maintaining the card system. In the second phase, PIV II, the OMB required agencies to demonstrate their ability to issue the identification cards and be capable of issuing new cards to all new employees and contractors no later than October 2006.

To satisfy the requirements of PIV I, the IRS completed its PIV I Procedures Manual on
October 27, 2005. This manual contains step-by-step instructions that address PIV I requirements. However, the IRS has been experiencing delays in issuing new identification cards to employees and contractors that enhance security, reduce identity fraud, and protect their personal privacy.

Initially, the IRS attempted to produce its own identification cards but could not demonstrate the ability to issue them. Despite assigning 68 employees and contractors to this effort, the IRS had not yet purchased the hardware and software necessary to produce the identification cards and did not expect to complete the program until September 2010, two years after the OMB mandated deadline.

The IRS stated, however, that it met the PIV II milestone because it contracted with the General Services Administration (GSA) for 100 identification cards to meet the OMB deadline, even though it did not plan to use the GSA to issue additional identification cards after the PIV II milestone. The GSA is making its solution available to all Federal agencies, and, due to economies of scale, TIGTA believes that the GSA should be able to issue the cards less expensively than agencies that produce their own cards.

TIGTA recommended that the IRS consider the benefits of using shared solutions, such as that offered by the GSA for issuing identification cards to IRS employees and contractors. Rather than spending resources on developing its own system, TIGTA recommended that the IRS coordinate with the GSA to resolve concerns and customize the GSA solution to meet IRS needs. IRS management agreed with the recommendation, and its HSPD-12 Program Office discontinued development efforts for a Treasury Department-wide enterprise HSPD-12 solution. On May 18, 2007, a letter was issued to the GSA stating the IRS’ intention to use its services to the extent possible.

Report Reference No. 2007-20-110

Noncompliance with Security Policies and Procedures

Using social engineering tactics, TIGTA determined that IRS employees, including managers, are not complying with the rudimentary computer security practices for protecting their passwords. TIGTA made 102 telephone calls to IRS employees, including managers and a contractor, posing as a helpdesk representative seeking assistance to correct a network problem. TIGTA was able to convince 61 employees (60 percent) to comply with the request. As a result, the IRS is at risk of providing unauthorized individuals access to taxpayer data.

TIGTA reviews during FYs 2003 to 2007 have identified persistent computer security weaknesses that jeopardize the security of personally identifiable information, and TIGTA continues to find that employees are not aware of the security risks inherent in their positions. It is clear that some IRS executives are not holding managers and employees accountable for carrying out their responsibilities and for ensuring that managers and employees are aware of these serious security risks.

TIGTA recommended that the IRS: 1) continue security awareness activities to remind employees of the potential for social engineering attempts and the need to report these incidents to its computer security organization; 2) conduct internal social engineering tests on a periodic basis to increase employees’ security awareness and the need to protect usernames and passwords; and 3) coordinate among business units to emphasize the need to discipline employees for security violations resulting from negligence or carelessness. The IRS agreed with these recommendations and has taken or agreed to take corrective actions.

Report Reference Nos. 2007-20-107 and 2007-20-117

Providing Quality Taxpayer Service Operations

Since the 1990s, the IRS has been improving the quality of its customer service to taxpayers. In fact, in its current strategic plan, the IRS’ first goal is to improve taxpayer service. The Senate Committee on Appropriations has noted that the IRS lacks a concrete plan to provide adequate alternative services to replace services proposed for reduction or elimination. In response, the IRS developed a five-year Taxpayer Assistance Blueprint (TAB) that will help it focus on providing appropriate types and amounts of service. TIGTA continues to identify the need for improvement in taxpayer services provided through toll-free, face-to-face, and electronic methods.

Taxpayer Assistance Blueprint

In July 2005, Congress requested that the IRS develop a five-year plan with an outline of which services the IRS should provide and how it will improve services for taxpayers. In response, the IRS developed the TAB to focus on services that support the needs of individual filers. The objective is to effectively and efficiently align service content, delivery, and resources with taxpayer and partner expectations. TIGTA reviewed the Phase I report and is conducting a review on the Phase II report to be issued in FY 2008.

The Phase I report identified strategic improvement themes by researching IRS service relative to taxpayers’ needs and preferences. TIGTA found that the majority of the information reviewed in the Phase I report was accurate. Information found to be inaccurate and inconsistent did not affect the IRS’ five strategic improvement themes, which are common to organizations that aspire to deliver successful customer service.

However, the types of problems found with the compilation of some of the data could adversely affect IRS management decisions. Management officials stated that they had taken actions to improve the process for validating information included in the Phase II report. Therefore, TIGTA made no recommendations but is testing the quality review process in the review of the TAB Phase II report.

Report Reference No. 2007-40-078

Electronic Filing

Electronically filed tax returns increased in 2007. The largest increase came from taxpayers filing online from home computers (11 percent). However, use of the Free File Program declined, and the TeleFile Program has been discontinued.

The Free File Program allows taxpayers meeting certain income requirements to electronically prepare and file their individual income tax returns free of charge. The IRS administers the program as a partnership with a consortium of tax software companies. However, the usability and marketing of the Free File Program need to be improved.

The IRS has not collected data about taxpayers who: 1) attempted to use the program but did not or could not complete and file their tax returns; or 2) were eligible but did not use the program. Of the 93 million taxpayers eligible for the program in CY 2006, only 4.2 percent (3.9 million) used it. The IRS can also improve its administration of the program. The program software did not always accurately compute the taxes due, and the “Guide Me To a Company” feature that helps taxpayers select a program vendor was not always complete or accurate.

TIGTA made several recommendations including developing a comprehensive plan to evaluate and promote the Free File Program, and establishing a process to test the software used in the program before the filing season to ensure that common tax scenarios are handled accurately. The IRS agreed with most of the recommendations but did not agree to test the software used in the program before the filing season because it would create a substantial challenge.

Report Reference No. 2007-40-105

The TeleFile Program had allowed taxpayers to file their individual income tax returns for free using the keypad on their telephone. The IRS discontinued TeleFile in 2005, citing increasing costs and declining participation. TIGTA found that the IRS’ decision to discontinue TeleFile was premature and created unnecessary taxpayer burden. Of the 2 million taxpayers who would have remained eligible to TeleFile their income tax returns for free, TIGTA estimated more than 541,000 taxpayers (29 percent) paid approximately $23.6 million to file their tax returns in 2006. In addition, almost 966,000 taxpayers (48 percent) reverted to filing paper tax returns, thus losing the benefits of faster refunds that electronic filing provides. These figures do not include those taxpayers who would have become eligible to use TeleFile for the first time in 2006.

TIGTA determined that the information the IRS used to support its decision to discontinue TeleFile contained errors and was incomplete. Whatever actual cost savings were gained by discontinuing the TeleFile Program, the result, in effect, was that the costs were shifted from the IRS to taxpayers.

Report Reference No. 2007-40-116

Filing Season

The filing season is critical because it is during this time that most individuals file their income tax returns and contact the IRS if they have questions about specific tax laws or filing procedures. The 2007 Filing Season was especially demanding for the IRS due to high-profile administrative changes, such as the Telephone Excise Tax Refund (TETR). The TETR was the most wide-reaching tax refund in the history of the IRS, affecting an estimated 145 million to 165 million individual taxpayers, including many who normally would not file tax returns. TIGTA’s audits of the 2007 Filing Season focused on two major areas: 1) the taxpayers’ experience; and 2) the processing of individual income tax returns.

2007 Filing Season Taxpayer Experience

TIGTA auditors used five scenarios and posed as taxpayers to obtain answers to tax law questions and prepare tax returns using various IRS services. The auditors’ overall experiences in obtaining answers to their tax law questions were positive, and they received good customer service. Using the IRS Taxpayer Assistance Centers (TAC), the Toll‑Free Telephone Assistance Line, the TeleTax Line, and IRS.gov, auditors were generally able to find answers to tax law questions and obtained correct answers for 50 (94 percent) of 53 questions. Notwithstanding those examples, because of the complexity of the tax law, TAC assistors are only authorized to answer questions within the specific tax topics for which they are trained. These topics are not published on IRS.gov; therefore, taxpayers may unnecessarily need to travel to TACs to ask their questions.

Experiences were mixed for tax return preparation assistance at TACs. Auditors were able to prepare correct tax returns when using available tax forms, instructions, and publications, but were not always able to obtain or create correctly prepared returns when using TACs and the Free File Program. Of the 36 tax returns prepared, only 24 (67 percent) were prepared correctly.

Additionally, the Volunteer Program plays an increasingly important role in the IRS’ tax return preparation program. The IRS continues to move away from providing tax preparation assistance at its TACs and is relying more on the Volunteer Program. The strength of this program depends on partner organizations and their volunteers. TIGTA’s reviews over the last four filing seasons have determined that the accuracy rates for tax returns prepared at Volunteer Program sites continue to increase. Nevertheless, volunteers continue to not follow procedures that assist in the accurate preparation of tax returns. To ensure the continued success of the Volunteer Program, the IRS must focus its oversight on holding volunteers accountable. Incorrectly prepared tax returns increase the risk of taxpayers receiving erroneous payments or not receiving credits to which they are entitled.

The IRS provided taxpayers with effective access to its toll‑free telephone system during the 2007 Filing Season. The IRS planned and met the 2007 Filing Season toll‑free performance

measurement goals of 81.6 percent Level of Service and 258 seconds Average Speed of Answer and provided taxpayers with effective access to its toll‑free telephone system.[5]

However, the quality and level of customer service for Spanish applications[6]<

April 1, 2007 - September 30, 2007

Table of Contents

Inspector General’s Message to Congress

TIGTA’s Highlights

TIGTA's Profile

Statutory Mandate

Inspector General, Principal Deputy Inspector General

· Chief Counsel

· Deputy Inspector General for Investigations

· Deputy Inspector General for Audit

· Associate Inspector General for Mission Support